E-Notes

Energy Independence Is Not Energy Security

March 28, 2006

Bernard E. Munk

Bernard Munk, a Senior Fellow at the FPRI, is principal at Munk Advisory Services, an investment advisory service and publisher of ECOMENTARY, a private investment letter, and the website www.ecomentary.com.

The shock of Hurricanes Katrina and Rita in summer 2005, coming after a long run-up in petroleum prices stretching back from 2002, put energy independence back into the political arena. Unfortunately, discussions of energy policy, particularly by national politicians, offer an unlimited opportunity to pander and almost no thoughtful policy insights, particularly when the rubric, energy independence is the theme of the policy proposal.

Energy independence—at least oil independence—is essentially unachievable in almost any environment that we can conceive over the next few decades. There is almost nothing we could do short of giving up our transportation-based economy that would secure this “goal.” To get there, we would have to abandon much of our passenger vehicular traffic use, airline availability, and the vast trucking network that makes this economy so flexible. The response of consumers to such an outcome is contradicted by the fact that despite much higher prices, consumption of transportation fuels has not fallen to a new, lower level that is likely to be sustained in the future.

If talking about won’t make it happen, one ought to ask the next politician or policy wonk who starts from this premise, why are they taking up your time? It is misleading and counterproductive to make this appeal to voters.

We use over 20.7 million barrels a day of crude oil and products and import 58.4% of that requirement. Looking at history, it is undeniably clear that our “dependence” is likely to grow, not diminish. The essential reality from which rational energy policy must start is that when it comes to transportation fuels (gasoline, diesel, and jet fuel), there are no suitable substitutes that pack as big a bang for their weight now available. Furthermore, we are unlikely to have a hydrogen economy suddenly appear out of a laboratory and be commercialized in any significant way over the next few decades.

Can we replace oil in power generation or in space heating? Certainly. We have made nuclear technology much safer and far more efficient than the nukes built prior to the Three-Mile Island scare of 1979. We also have plenty of coal and the technology is available to make that coal a clean power source. While power costs are likely to rise, the U.S. requirements for power generation could be supplied domestically, even if U.S. natural gas reserves diminish in the future. If power generation was our only problem, the U.S. could be “energy independent.”

Transportation is an entirely different issue. We need petroleum to run our transport system. We can make some improvements in miles per gallon; we can, at higher cost, substitute some addition to our burnable fuel supply produced from agriculture, and we could use more natural gas (again, if the price didn’t matter) for various kinds of “fleet operations” (e.g. municipal buses). But unless the American public is prepared to accept a very different kind of transportation economy, energy independence is simply a fiction. It is not the basis for a sound energy policy for the United States. Isn’t it time to re-frame the issue?

Voters should understand these facts and question politicians who claim differently. High prices are not our problem, but the can be our friend. Higher prices for crude oil and gasoline will allow the economy to adapt to the new reality that the costs of finding new sources of crude oil for a growing world economy will certainly rise. We have a very flexible economy with lots of opportunities to “substitute,” and higher prices will amplify those opportunities by reducing the demand for oil and gas products while inducing more innovation and higher productivity in the search for and refining and distribution of oil and gas products.

Energy security, however, is important, and to a large extent achievable, but it should never be confused with energy independence. We can improve the former but we cannot ever have the latter. We are unlikely to eliminate hurricanes even if it turns out we learn to better predict their path and intensity. Putting 20 to 25% of our national refinery capacity in a likely path for hurricanes is a risk we have undertaken. They can be damaged even if our weather predictive capacity is sharply improved. Further, we can lose supplies of crude oil coming from the Gulf of Mexico. In the tightly supplied world of crude oil, the loss of 1.5 million barrels of oil from the world supply is significant. We will have to learn to live with these choices or build refineries in areas less susceptible to weather disturbances.

Uncertainty also extends to the likely disturbances in the international political economy that will affect energy supplies. Much as we might like, the political fortunes of oil suppliers are beyond our practical control. Upheavals can and do take place. More significantly, as the Third World becomes the Second and First World, the demand for energy in many countries is going to rise. Those demands will entail rising energy prices and a more active market in the search for and control of foreign energy supplies. That said, however, energy suppliers need markets and the “oil weapon” is much less likely to be used by “rogue” regimes for the very fact that other than oil or natural gas, those regimes generate few alternative foreign exchange earners. Their inhospitable attitudes toward foreign investors, particularly the United States, more often than not, confines them to the so-called “oil curse” and the attendant corruption that makes for permanent poverty.

It is time for national political leaders to realize that a call for energy independence is an atavistic appeal to an independence that can never be. It is time to learn to live with an energy world that is, not the world that can never be!

A good analogy was the early 1960s, when we were in the midst of the Cold War and both sides were armed with nuclear weapons. Our building nuclear weapons did not enhance our feeling of security. Conversely, the Russians could build more of them and still feel insecure. Remember the 1964 film, Dr Strangelove. It was subtitled ’How I Learned to Stop Worrying and Love the Bomb.’ Both sides accepted that we lived in an uncertain world. We built massive offensive capability to deliver weapons against the Russians, but it didn’t bring us true security. The film satirized the circumstances of our insecurity when Major T.J. “King” Kong (Slim Pickens) rode the bomb out of our rogue bomber yippy-i-aying like it was a bucking bronco as the weapon plummeted to Earth. General Turgidson certainly showed the “Russkies” that they couldn’t push the U.S. around!

Oil is similar. We will always have a certain amount of “insecurity” owing to the nature of how oil is “owned.” Energy resources are more often than not owned by States who react to political themes not necessarily economic incentives. Recently, the WSJ reported that less that only some 7% of the world’s energy resources are ’in play’ in the market while the rest are either directly or indirectly controlled by States. That means that energy security can only come from political cooperation enhanced by economic incentives.

Several countries who are important oil producers currently have governments who don’t like us (Iran, Venezuela, and possibly Russia). However, they need the revenues from oil and gas sales and whether the U.S or other countries receive buys them, it is the total pool of hydrocarbon resources that bears on prices and therefore on our economy. Whether we ’control’ them may have little to do with how they are priced. Perhaps the most important lesson of “Katrita” was how quickly the International Energy Agency (IEA) made supplies available to us that helped to dampen our “insecurity.” That should have been a signal lesson from the catastrophe. Instead, we are in a blame game over how well prepared we were and who fumbled the ball.

We should forget about independence and concentrate on measures to improve our energy security, starting with recognizing the mutuality of interests among consuming and producing countries and building our policies around improving our relationships with other consuming and producing countries. All of these countries have a mutual interest in a world that has as few “shocks” in it as possible.

Given that the State is so fundamental to the energy market, and that oil is a global business with every country having an interest in that the oil market is not frequently upset and interrupted, energy security is just one aspect of international security. We have long ago learned that we have to find common paths along which we can cooperate with other countries rather than finding all the elements that create a competitive environment between States. I can give a number of examples.

Consider the recent case of the Chinese National Oil Company, CNOOC, which wanted to buy Unocal, a holder of energy concessions in other countries. Congress and the White House created a furor and blocked the sale to CNOOC. But look at the real damage such and intervention provided. What we should be caring about is to increase the total supply of oil made available to the world market. We don’t require that oil be produced by an American firm. We want our investments in China to be treated on a non-discriminatory basis, but we sent a powerful signal to the Chinese that we don’t want to play by these rules—-particularly when a ’vital national interest’ is at stake! We intervened on behalf of a U.S. company, probably reducing the price of the shares (to American stockholders) as well. We antagonized the Chinese and told them play by our rules except when we want to play by different ones. Is that the signal we want to send to the world? Is this the cooperative environment in which international security can be enhanced?

A legacy of that intervention is the forced “give-up” by a U.A.E.-based company (Dubai Ports World) of the management of six U.S. ports. The furor was over “security,” although there has been no evidence produced that the “ownership” as opposed to the “conduct” or “management” of the ports would result in less security for the U.S. What has been demonstrated, however, is that this country is not “rule-based,” but is as jingoistic as many others. We have descended into a form of protectionism that can only destroy international security.

Under almost any conceivable circumstances, Dubai Ports would have been much more alert to the dangers of terrorism than any other non-Arab company. Why? Precisely because the entire world would be watching their conduct. We need to promote the idea of common interests in security in Arab countries. Throwing down the gauntlet of “national interest” was hardly the way to promote international cooperation.

What about high-priced oil? There is good news and bad news here, but more good news than bad news. The bad news is obvious: it will cost more to fill up your SUV than it used to. The good news is that the return to investment in petroleum discovery and refinery has gone up. High prices send a signal to investors to deploy more resources into energy development, and at the same time signal consumers to slow down domestic consumption. Both activities improve the margin of safety of petroleum supplies and that is in all of our interests.

What the political leaders of this country need to understand is why do we have high prices anyway? Chronic under investment in the energy business and sustained, world economic growth. If they want to blame someone, blame it on Alan Greenspan. He promoted world economic growth like no other Fed Chairman before him, allowing the U.S. to have one of its longest, sustaining periods of economic growth. Our growth set off rapidly rising petroleum consumption at home and high growth in many developing countries. By elevating their growth, they elevated their demands for petroleum. Welcome to a “flat world!”

What the Congress has done recently is go backwards on the world’s progress toward interdependence and the U.S. commitment to the free flow of goods and capital. That is precisely the wrong signal for international cooperation. The Congress is patting itself on the back that they have stood up to globalization and are more vigilant about U.S. security than is the President. They should be ashamed because they are signaling the world that the U.S. has only a partial commitment to free trade and investment.

The Siren Song of Energy Independence is as dangerous to us as the Sirens were to Ulysses. His trick should be ours! Bind up your ears, America, and pay attention to international security.

Summary

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